A hedge against the possibility that the technology’s return is a fake and still needs to be regulated
Whether something looks like a good investment or not is relative. The Technology Select Sector Index, which the ‘XLK’ ETF tracks, is down about 9% since its all-time high on July 10. Its total return year-to-date is 13%, lagging the market’s total return by nearly 4%. That’s despite the fact that tech sector earnings have grown at a compound annual growth rate of 2.7% higher than the S&P 500. The chart below shows tech sector earnings growth relative to the S&P 500 over the past 20 years on a logarithmic scale. Not only has tech’s earnings growth been faster, but it has also been more consistent. This may challenge the notion that many tech stocks are more speculative than the more diversified large-cap broad market index. If I asked you whether you’d rather own a stable, fast-growing group of innovative companies or a slower-growing, more volatile group, including a large number of companies that may be struggling to keep up with a rapidly changing economy, the choice would be clear. Of course, before you write a check, you probably have a question or two, like “What’s the catch?” and “Okay, how much?” … and that’s the problem. While tech stocks are down nearly 9% from their all-time highs, those all-time highs also reflect all-time high valuations. There’s another problem—namely, price action. Looking at the top 22 technical indicators on XLK, 15 are negative. Trading It’s also worth noting that despite this week’s rally, volatility remains high. Volatility measures the market’s anxiety, the intersection of fear and greed. Thirty-day realized volatility for the select technology sector index is in the 85th percentile. XLK YTD mountain Technology Select Sector SPDR (XLK), YTD This rally may have legs, and we have bounced back through the 150-day moving average, but there is also the possibility that this is a false positive in the downturn from the all-time high and a full-fledged correction (a decline of more than 10% from the all-time high) is possible. I suspect that technology stocks are at risk of entering correction territory before the end of the year. Therefore, I would suggest at least a hedge, or for more aggressive and speculative traders, perhaps even an outright bearish bet. Higher volatility means higher option prices, which vertical spreads can help mitigate. Trade: Sell XLK Oct 25, $200 put Buy XLK Oct 25, $215 put One could hedge after the election if one wanted, but I guess we’ll know if this is a bear market rally before then, so I’ve chosen late October in my example here. DISCLOSURE: (None) All opinions expressed by CNBC Pro contributors are solely their own and do not reflect the opinions of CNBC, NBC UNIVERSAL, its parent company or its affiliates and may have been previously disseminated by them on television, radio, the internet or other media. THE ABOVE CONTENT IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY. THIS CONTENT IS PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND IS NOT INTENDED TO BE FINANCIAL, INVESTMENT, TAX OR LEGAL ADVICE OR A RECOMMENDATION TO PURCHASE ANY SECURITIES OR OTHER FINANCIAL ASSETS. THE CONTENT IS GENERAL IN NATURE AND DOES NOT REFLECT ANY INDIVIDUAL’S UNIQUE PERSONAL CIRCUMSTANCES. THE ABOVE CONTENT MAY NOT BE SUITABLE FOR YOUR PARTICULAR CIRCUMSTANCES. BEFORE MAKING ANY FINANCIAL DECISION, YOU SHOULD CONSIDER SEEKING ADVICE FROM YOUR OWN FINANCIAL OR INVESTMENT ADVISOR. Click here to view full disclosure statement
